OBJECTIVES The pharmaceutical industry is in the center of political debate due to their high profitability. In this study, we argue that abnormal profitability in the pharmaceutical industry is a kind of optical illusion created by accounting standards and their influence on reported accounting profit and book equity – the two components of ROE.  The internationally accepted accounting frameworks either do not permit capitalizing R&D investments as U.S. GAAP or limit capitalizing R&D investments as International Financial Reporting Standards (IFRS) applicable in the E.U. and most countries. This treatment understates assets and equity, and can overstate reported profit because relevant cost components (amortization of R&D) are not deducted from revenues they generate. We empirically aim to estimate the magnitude of this accounting bias. METHODS Based on international financial data of 413 pharmaceutical firms between 1972 and 2012, we assessed the “true” profitability of pharmaceutical firms by capitalizing R&D and amortizing it over the shelf-life of developed products. We use three amortization approaches (linear amortization, declining-balance amortization and amortization based on the empirical amortization rates).  RESULTS Corrected profit and equity figures lead to substantially lower long-term profitability of pharmaceutical firms. Over the three proposed amortization approaches, the corrected ROE of 14.1% is comparable to profitability reported by U.S. firms from other industries (ROE = 11.1%).  Non-U.S. pharmaceutical firms also have an adjusted ROE that is comparable to firms from other industries (7.6% pharma vs. 9.6% non-pharma). CONCLUSIONS The policy implication of our study is that price regulation or rate of return regulation in the pharmaceutical market should be reviewed and applied with caution when it is solely motivated by the allegedly high profitability of the industry. This is especially true since such a policy also impedes R&D investments and innovation in the long run because profits serve as a major source of R&D investments.